How Physician Organizations Are Responding to Managed Care

Issue Brief No. 20May 1999

espite a rash of troubles in 1998, physician organizations - formed in response to managed care plans - can thrive if they are locally owned, physician-run and rationally sized, said panelists at a recent roundtable organized by the Center for Studying Health System Change (HSC). The panelists also noted the markets slow progress toward global capitation as a way of compensating physician organizations, and the generally weak state of information systems required to support the goals behind capitation: accountability, efficiency and quality. This Issue Brief reports on governance, physician-hospital relationships, capital needs, compensation and other developments covered at the roundtable.

This Issue Brief is based on a roundtable sponsored by HSC, held January 27, 1999, in Washington, D.C.

No One-Size-Fits-All Organizations

hysicians are key to the delivery
of effective care, and their decisions drive approximately 80 percent of all medical
spending. So any organization that wants to influence their behavior and control
quality "needs to be able to come up with appropriate incentives and structures,"
said HSC health researcher Joy M. Grossman.

Consequently, a wide variety of physician entities have sprung up to organize
physicians in ways that go beyond the traditional practice of
medicine and billing. These organizations have attempted to consolidate physicians
as a means to obtain more advantageous managed care contracts and gain administrative
and clinical
efficiencies. Such organizations have also sought to acquire capital to finance
organizational growth; to develop information and clinical management systems to
control costs and improve quality; and to develop strategies that tie physicians
to larger, integrated health care organizations.

There is no one-size-fits-all
physician organization. They may be locally owned and operated or regional/national
in scope. They can be single-specialty or multispecialty practices. And they can be
owned by the physicians themselves, a hospital, outside public or private investors
or a health plan. Other defining characteristics are the management techniques an
organization brings to bear, how active the physicians are in setting practice
policy, the financial incentives physicians face and whether the organization is
tied exclusively to one payer.

Many of the challenges confronted by physician organizations today stem from a
sense that certain, hoped-for economies of scale have not yet emerged. For
example, large practices tend to generate expensive new administrative
complexities, including a layer of costly staff to support the organization.
Moreover, larger entities, especially those formed from practices acquired by
hospitals and physician practice management corporations (PPMCs), have often
degraded physician performance, productivity and enthusiasm
by shifting the doctors to salary-based compensation systems and eliminating
or reducing their equity in the organization. How organizations attempt to
balance their objectives of cost-effectiveness with physician satisfaction
will be an important factor as health systems evolve in coming years.

Governance and Physician Involvement

ne of the core attributes of a viable
physician organization identified by
the panelists was physician buy-in based on a strong role in governance. The
panelists concurred that an organization cannot be imposed from the outside
on physicians, who by nature are highly independent, strong-willed people
with "an almost religious sense"
of autonomy. Moreover, their accountability and liability for their patients
well-being is a powerful disincentive to share responsibility for medical
management with others.

These complex sociological, legal and economic factors have produced governance
models that are often unstable. Many small practices wind up running like
dictatorships, noted Jacob G. Kuriyan, CEO of Physmark. "As long as it
is a benign dictatorship, these things seem to work," he said, but often
those models leave
the leader/owner vulnerable to buy-out offers from PPMCs or hospitals.
Larger organizations, said David Blumenthal, director of the Institute
for Health Policy, MGH/Partners Health Care System, Inc., can maintain
the trust of members by operating like a republic or representative
democracy, "with legitimacy deriving from the fact that people are
elected and accountable."

Countering this, Grossman cited an Orange County, Calif., independent
practitioner association (IPA) that had seen its democratic model evolve
into a more authoritarian approach as the IPA gained leverage in the market, and
various groups within the IPA became hesitant to share data with the whole organization.

J. D. Kleinke, chairman of Health Strategic Network, Inc., differentiated between
the natural leadership exhibited in good physician-run organizations and the
technocratic approach
of institutional practice mangers. Management by formula, he said, "is
anathema to the practice of medicine." The bottom line, said Blumenthal,
is that "legitimate physician organizations for the most part are run by physicians."

Physician-Hospital Relationships

uestions of leadership and practice
management can be particularly prickly when hospitals acquire physician practices in
an attempt to
control a primary care network. Many of these relationships had been costly for
hospitals, Kleinke noted, largely because of the rush by competing hospitals and
PPMCs to acquire practices. As a result, prices were driven up to unreasonable
levels. Moreover, hospitals and other entities that purchase practices often put
doctors on salary without performance-based adjustments and end up paying excessive
salaries with declining productivity.

This does not mean that hospitals cannot make excellent organizing partners. "If
practices need capital, information systems and the
ability to assume global risk, and want to appeal directly to consumers to
neutralize health maintenance organizations [HMOs], then the local hospital
is the place that makes the most sense to organize physicians," Kleinke says.

Kuriyan agreed that the hospital model
can work, but said that the degree of hospital control and the willingness
of doctors to live
with that control depends entirely on the local marketplace. Moreover, he
said, "it is a mistake
to think that owning a person is the best way to have a good tie with that
person. There are better ways of building a relationship." One of those ways
is for the hospital to educate its physicians about the business of managed
care. "If physicians understand why the world has changed
and why, for example, global packaged pricing needs to occur, then hospitals
will have done an invaluable service," Kleinke said.

Hospitals natural advantage as organizers of physicians, according to Blumenthal,
is not that they have particular skill ("they are terrible at it, for the most
part"), but that they are immovable fixtures in the community, and their
profitability makes them a good source of capital. Even though long-standing
antagonisms often fester between hospitals and physicians, the doctors ought
to take a second look. "Hospitals localness is a major advantage," he said.

Raising and Spending Capital

he amount of capital a physician
practice needs to use to grow and modernize depends
on its ambitions, according to the panelists. Modest-size local organizations are
sustainable without much financing, and the capital can usually be raised from the
member/owner
doctors themselves, said Kuriyan. Grossman noted that traditional, local sources of
capital, such as banks, are proving to be good sources of capital for smaller
operations. If an organization wants to adopt all or some of the attributes of
a health plan, however, financial requirements for solvency and information
systems quickly run into the many millions of dollars.

The most conspicuous and complicated influx of capital to the physician sector
in recent years, panelists agreed, has come
from Wall Street. Investors saw vast potential for consolidation, standardization
and economies of scale. But Kuriyan cited two flaws in that vision. First, investors
were looking for returns similar to those being realized in other hot sectors, such
as Internet stocks-an impossibility given that physician practices make modest margins in the best of times. Second, Wall Street-style investments require a clear exit strategy - a point at which investors can take their gains and leave the field. This is "very difficult when you are talking about a lifelong relationship between a doctor and a patient," he said. In addition, Blumenthal maintains that investors in the corporate PPMC model did not understand the product. Investors assumed the work of physician offices could be standardized and franchised, but the complexity of clinical decision making and physicians natural distrust of outside managers have made that difficult.

Compensation and Capitation

t is widely assumed that the
efficiency and practice style of physicians is intimately related to how their
services are compensated. The incentives apply at both the level at which a
health plan pays a physician organization or intermediary (e.g., capitation)
and the way the organization pays the individual doctor (e.g., through bonuses
for productivity). Kuriyan said that capitation clearly reduces utilization,
but Blumenthal noted that evidence of capitations effects on long-term quality
of care is still not available.

While it has proliferated more slowly than many experts predicted, capitation
has had positive effects on some physician cultures. Blumenthal said that the
group he works with confronted the constraints of capitation by subdividing
into "pods" of eight to 12 doctors who meet weekly to review complications
or deaths and discuss difficult or expensive cases. "This level of
organization requires capital and support in the form of assistance - statistical, technical and other kinds - to realize its full potential," he said.

While capitation has not been without problems ("it has forced physicians to
think like adverse selection-avoiding insurance
executives"), Kleinke noted that it also offers incentives for efficiency and
quality that are too powerful to ignore. "Being more attuned to the process of
care when there is some financial pain associated with sloppiness ultimately
drives the market toward capitation or some variant of it," he said.

The ways in which individual doctors
get compensated are, if anything, even less advanced than capitation systems.
The panelists did note, however, that two of the case study sites had taken
opposite approaches. Harvard Vanguard, upon separating from its HMO partner,
adopted an individual compensation system based in part on the productivity
of each physician and on the satisfaction of his
or her patients. After being acquired by an HMO, Thomas-Davis doctors were
shifted to a straight salary system, only to see productivity and physician
motivation fall sharply.

Information Systems

uch of the ability of
physician organizations to monitor their own costs under capitation, work
with hospital partners and refine the efficiency and effectiveness of their
own care depends on advanced clinical and financial information systems. The
health care sector has talked about leveraging informatics for years, but
providers on the front lines have not invested in the best the market has
to offer, Kleinke said. This is because "we are dealing with generations of
disincentives to measure and understand" the process of medicine.

Information systems make their own argument for smaller, local physician
organizations. The per-doctor cost of an off-the-shelf system that serves
a small group is significantly lower than the cost for a larger group that
needs customization. "One of the biggest PPMCs in the country had 43 databases
that were all not talking to each other," Kuriyan noted. The result is that many
groups do not know their costs in real time, who their underperforming doctors
are or how to identify their especially costly patients.

Future Directions

he panelists pointed to a future in which global capitation-a payment that covers all
or most medical expenses-would proliferate, but not without more struggle. Kuriyan
said that direct contracting between employers demanding value for their health care
premium dollar and physician groups seeking to box out the insurer middle man would
be part of this future landscape. Kleinke said that IPAs appear to represent the
"most flexible, nimble and
fungible" kinds of organizations. Physicians also may find them more participatory
than corporate organizations.

Blumenthal attempted to sum up the attributes of a successful physician organization.
It would require: (1) true cost accountability of each group; (2) abundant sources of
data about utilization and quality; (3) physician leadership; (4) modest size,
involving accountability among cells of around 20 to
30 physicians; and (5) a multispecialty orientation to facilitate efficiency and exchange of information across the care continuum.

The fundamental problem, said Blumenthal, is that "physicians do not want to be in organizations. It is something they are forced into
for survival. The only compelling glue that holds physician organizations together is the opportunity to negotiate better prices," he said.
"We havent yet developed other services to
the point where physicians truly see the added value sufficiently so that they are
willing to pay for these services by giving up something."

Three Physician Organizations: A Study of Contrasts

o demonstrate how dramatically different physician groups can be, HSC prepared case
studies drawn from experiences in three of its 12 Community Tracking Study sites.
Most of the forces affecting physicians practices nationwide appear in at least one of these cases. Each panelist introduced one case study; detailed descriptions of each can be found at.

Community Hospitals Indianapolis (CHI), a four-hospital health system with ownership
interest in the practices of more than 270 primary care physicians in about 120 offices,
is a good example of an integrated system trying to get doctors and hospitals to work
together with aligned incentives, said Kuriyan. While CHI may have made a miscalculation
typical of hospitals in recent years in "acquiring physician practices without quite
understanding why," it has brought both flexibility and uniformity to its affiliated
physicians practices. Doctors may affiliate with CHI in three ways: (1) as CHI
employees in CHI-owned practices; (2) as members of groups in which CHI has a
minority ownership interest; or (3) as private practice physicians with privileges
at one or more CHI hospitals. Whatever their affiliation, nearly all CHI doctors
are part of a physician-hospital organization that acts as a contracting entity
and either a primary care or specialty IPA affiliated with the hospital that
organizes medical management. CHI is re-evaluating its relationships with
"owned" physicians, including
introducing productivity-based compensation because it is losing money with this
arrangement.

Harvard Vanguard Medical Associates is a not-for-profit, semi-exclusive group practice affiliated Harvard Pilgram Health Plan (HPHP) - the sole source of its managed care business - with 600 physicians and 300,000 covered lives. Blumenthal said that when the staff-model clinic was spun off from its former parent HMO in 1997, it was to test the theory that "physicians who govern themselves and have autonomy in their organization can do better at controlling costs and improving quality than they could in a more complicated organization in which they had less governance control." Vanguard instituted risk-sharing between HPHP and the physicians for the first time and developed a compensation system based in part on patient satisfaction. The organization has close ties to Harvard Medical School and an active research program that maintains a reputation for clinical innovation and excellence, another important factor in maintaining
physician loyalty.

Thomas-Davis Medical Centers, of Tucson and Phoenix, is a striking example of the
possible perils of corporate ownership, said Kleinke. In his "autopsy" of the
70-year-old group practice, he noted several mistakes in the final years of the
practice. First, when the clinic and its owned HMO partner were sold to a large
national HMO in 1994, some senior doctors/owners earned more than $3 million each,
but in their role as employees of the new organization, they lost governing authority.
Second, the HMO sold the physician practice to a national PPMC, keeping the health plan
in what Kleinke characterized as an "arbitrage play" for a "bargain-basement" price on
380,000 covered lives. The PPMC that bought Thomas-Davis imposed stiff cost-cutting
measures, inflaming the clinics Tucson doctors to the point where they joined a
physicians union. The PPMC also suffered from the ultimately futile attempt to
manage physicians from a corporate headquarters in a remote city.

"Physicians do not want
to be in organizations. It is something they are forced into for survival."
-David Blumenthal

"It is a mistake to think
that owning a person is the best way to have a good tie with that person. There are better ways of building
a relationship."
-Jacob Kuriyan

"If practices need
capital, information
systems and the ability
to assume global risk,
and want to appeal
to consumers, then
the local hospital is
the place that makes
the most sense to
organize physicians."
- J.D. Kleinke